How diversified should a new investor's portfolio be? Diversification in a portfolio refers to the number of stocks being held at any given time. The basic mentality is that the more stocks an investor owns, the less risk they realize overall. This can hurt new investors though that are just getting started.
Consider only investing in a small number of stocks to minimize portfolio diversification and concentrate on the best picks possible.
Depending on how much money an investor has set aside to invest in the stock market, their portfolio as far as number of holdings should follow this general diagram:
- <$4,000 = 1 stock
- $4,000 - $10,000 = 1 - 3 stocks
- $10,000 - $20,000 = 1 - 5 stocks
- $20,000 - $500,000 = up to 6 or 7 stocks
- >$500,000 = 10 - 15 depending
One reason investors should hold less stocks and not more is simply because of focused returns. One stock having a 10% day worth 20% of a portfolio is a stronger return than a 10% move on a stock that only makes up 5% of a portfolio. All investors should follow rules though and minimize losses to stay in good hands. Cut losses to an average of 5 - 8% using stop loss orders and let the runners run.
Minimize Trade Commissions
Unless trading stocks for free, it is smart to keep commissions to a bare minimum. There are many online stock brokers that can offer you good deals. Especially when there is not a lot of capital to trade with (say less than $10,000), trading smart versus often can save money. On a $1,000 portfolio for example ten trades at $9.99 would equate to $100, or 10% of the whole portfolio!
Keep Things Simple
The last reason investors should want to only hold a few stocks versus many is to keep focused and buy the BEST possible stocks each and every time. Most investors will typically start with a few hundred potential stocks to buy, narrow them down to 10 - 20, and keep narrowing until they have decided on one or two. This ensures the highest probability of success is reached while maintaing that new investor focus.